The US Federal Reserve's decision to delay cuts to its massive stimulus program is set to weigh on the Reserve Bank and keep the door open for another interest rate cut, after the Australian dollar soared to a three-month-high on the surprise move.
The US central bank's move shocked financial markets, which expected a modest reduction of up to $US10 billion in its monthly $US85 billion quantitative easing program. It sparked a global rally, pushing US stocks to record highs and bringing relief to embattled emerging markets hit by fleeing foreign capital.
The Australian benchmark S&P/ASX 200 Index closed 1.1 per cent higher at a new five-year high of 5295.5. The broader All Ordinaries gained 58.2 points to finish at 5288.6.
The Australian dollar gained 1.5 per cent to trade above US95¢, a level not seen since mid-June, after the Fed's statement sent the US currency into a tailspin. The dollar was buying US95.16¢ late Thursday.
Currency strategists said the Australian dollar could maintain its recent gains, pointing to December as the next possible time the Fed could consider tapering its quantitative easing program.
The highly accommodative monetary policy stance and lack of a clear timetable for its stimulus reduction plans meant the Fed had "arguably removed the most bullish prop for the US dollar", Westpac's chief currency strategist Robert Rennie said.
"We see risks of a continued weakening of the US dollar and that's clearly something that's going to be supportive of the Aussie in the short term."
The strengthening dollar is a headache for the RBA, which has sought a weaker currency to support the Australian economy as it rebalances away from mining-led growth.
The currency was mostly trading above parity with the US dollar in the past two years. It fell to a low of US89.01¢ this year in August from a high of US105.98¢ in January, but recently regained some of its value.
"I wouldn't be surprised if we ended up being US97¢ to US98¢ against the US dollar [in the short term]," Citi currency strategist Todd Elmer said, adding the Reserve Bank was likely to become more active if the Australian dollar continues to appreciate.
He said investors were likely to exercise caution in returning to risk assets such as the Australian dollar, as the RBA had made clear its displeasure at the currency's high level and could use further interest rate cuts as a tool to bring it down.
JP Morgan economist Tom Kennedy said the strength of the Australian dollar, combined with the expected rise of the jobless rate to 6 per cent by the end of the year, could create a conducive environment for further monetary easing.
"It [the $] has stuck at this stubbornly high level, and if it's US95¢ over the next couple of [RBA] meetings, it's definitely going to be playing on the RBA's mind and is something that could potentially get them over the line."
Financial markets were pricing in a 4 per cent chance of a rate cut by the RBA in October and a 25.3 per cent chance of a cut in November, a slight rise from 23.2 per cent on Wednesday.
A key driver of the Fed's decision to stay its hand was soaring long-term US government bond yields. Fed chairman Ben Bernanke said that any stimulus reduction decision would be driven by signs of sustained growth in the US economy.
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